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Detroit creditors and bond insurers asked a federal judge to let them defend $1.4 billion in pension debt that the city is trying to invalidate in a lawsuit as part of its $18 billion bankruptcy plan.

Financial Guaranty Insurance Co. faces $1 billion in claims if the city succeeds in throwing out the debt issued in 2005 and 2006, Edward Soto, an attorney for the bond insurer, told U.S. Bankruptcy Judge Steven Rhodes in Detroit today. The trustee that the city says should fight the lawsuit won’t do enough to represent FGIC’s interests, Soto said.

“The funding trusts don’t face any losses if they lose the case,” said Soto, of Weil, Gotshal & Manges LLP. The two pension systems that got the $1.4 billion also have asked Rhodes to dismiss the city’s lawsuit against them.

Detroit this week began sending creditors ballots with documents explaining its debt-adjustment plan, soliciting votes through July 11. Detroit filed the largest U.S. municipal bankruptcy in July, raising alarms over the sanctity of municipal bonds and state-protected pensions. The plan is the product of agreements with retirees, employee unions and some bondholders.

State lawmakers have yet to approve Gov. Rick Snyder’s plan to give $350 million over 20 years — or $195 million in a lump sum — to Detroit’s employee pension systems. The money is necessary to secure an additional $466 million from private foundations and the Detroit Institute of Arts to defray pension cuts while shielding the museum’s art collection from sale to pay creditors.

Judge rejects assessing DIA art

Also today, Rhodes rejected FGIC's plea for permission to assess the value of city-owned art at the DIA by removing as many as 3,000 works from the walls so experts could examine them.

Art has been a hot issue in the bankruptcy case because many creditors believe pieces could be sold to pay debts. City-owned art has been valued at $450 million to $870 million, but some Wall Street creditors say that's way too low.

Bond insurers facing steep losses in the bankruptcy say potential buyers should be allowed to look at certain pieces at the Detroit Institute of Arts, even remove them from the walls.

But Rhodes said this afternoon that there are no grounds for such an "extraordinary" step. He said art can be viewed just like any other museum patron would see it. Rhodes left it up to the museum if it wants to allow access to art in storage.

The museum claims it's risky, and Detroit remains committed to a separate, unique deal that would prevent any sale and also soften pension cuts for thousands of retirees.

A so-called grand bargain favored by the city, wrapping in illustrious art and city employee pensions, involves $816 million from foundations, philanthropists, the museum and the state of Michigan.

Under Detroit's bankruptcy exit plan, the museum would take control of thousands of pieces of city-owned art already at the museum. The DIA has pledged to raise $100 million of the $816 million pledged to ease cuts for retirees whose pensions are being reduced.